Should the Indian state give incentives to industries?

Every few years, industrial policy makes a comeback. China subsidises electric vehicles. The United States pours hundreds of billions into semiconductor manufacturing through the CHIPS Act. Europe has its own green industrial strategy. India has production-linked incentive schemes covering everything from mobile phones to drones. The logic, in each case, is the same: our competitors are subsidising their industries, so we must subsidise ours. It sounds reasonable but requires a careful examination.

Any incentive scheme requires the government to pick winners — to decide that this sector deserves support and that one does not, that this manufacturer is worth backing and that one is not. The knowledge problem that makes central planning fail applies here too. Governments do not have better information than markets about which industries will thrive. What they have is political pressure from sectors that lobby effectively. The history of industrial policy is largely a history of resources flowing toward the politically connected, not the economically promising.

Even the World Bank’s recent report on industrial policy — which declared that it “should be considered in the national policy toolkit of all countries” — is less sweeping than it sounds. The Bank’s definition of industrial policy is broad enough to encompass measures ranging from reducing trade barriers, cutting regulatory red tape, strengthening property rights to production subsidies and sectoral incentives. When we bundle together “remove tariffs” and “subsidise manufacturers” under the same label and declare the package works, the findings become meaningless. The meaningful question is whether the specific distortions — picking sectors, directing subsidies, protecting incumbents — add value on their own. On that narrower question, the evidence is far less flattering. Globally, between 2017 and 2023, the use of industrial policy increased nine-fold, but most of that growth was driven by countries responding to geopolitical shocks — the US—China rivalry, supply chain disruptions after COVID — not by a development playbook that other countries can copy. Hence, the headline endorsement of industrial policy is misleading if you read it as a green light for production subsidies and sectoral incentives.

One might argue that if other countries subsidise their exports, Indian manufacturers lose out. Here is the honest response: not necessarily. When a foreign government subsidises an export, Indian buyers get that product cheaper, with part of the cost borne by the foreign taxpayer. That is a transfer from their citizens to ours. Whether the Indian manufacturers who face stiffer competition are more valuable than the gain to the buyers who save money is not obvious. 

The China case is the one most often raised. We explored the codependency argument in FAQ 7 in detail: China needs global markets as much as India needs Chinese goods. Any sustained effort by China to capture market share through subsidised exports creates exactly the capacity glut that would eventually force prices down further — benefiting Indian buyers and companies that depend on those inputs. The strategic concern is real, but it is narrow. It applies to genuine sovereignty risks where a single source creates dependence. But it does not justify subsidising every industry that successfully lobbies for the “strategic” label.